Source: http://enewsletters.constructionexec.com, July 27, 2017
By: Jeff Slivka, New Day Underwriting Managers LLC
It’s no secret. America’s infrastructure is in a deep state of disrepair. Using a simple A to F ranking system, the American Society of Civil Engineers (ASCE) rated the nation’s overall infrastructure as a D+ in its recently released 2017 Infrastructure Report Card.
This assessment is based on the general failure to invest properly in repairs and upgrades over decades.
Across the nation, states are constantly battling to make the necessary fixes, while working to meet the needs of an expanding population. According to the ASCE, nearly 10 percent of the nation’s 614,387 bridges were deemed structurally deficient in 2016. The estimated rehabilitation cost is $123 billion.
The Trump administration has begun the push for a $1 trillion infrastructure plan that includes overhauling roads and bridges nationwide. The problem is that this is less than 25 percent of the $4.59 trillion needed to correct the problems as estimated by the ASCE.
However, as a financial stopgap for cash-strapped municipalities, Trump has also actively advocated the use of public-private partnerships (P3s). While the model can vary depending on the project, P3 transactions typically involve teams of builders, designers and private equity lenders working as a cooperative to build new facilities and structures or upgrade outdated ones. In lieu of the short-term enumeration, the private investors would then receive payment in the form of rights-of-ownership, mutually agreed upon fees or rent from facility occupants and possibly even payment for maintenance or related services. Depending on the contract terms, such arrangements can last for years or even decades.
In 2013, an AIG report titled “The United States: The World’s Largest Emerging P3 Market” predicted that the U.S. was “poised to become the largest public-private partnership (P3) market in the world for infrastructure projects.” This is due to the inability of federal, state and local governments to “finance new projects on their own due to decreased tax revenue and shrinking budgets.” To facilitate P3 project funding nationwide, the Department of Transportation even opened the Build America Transportation Investment Center in 2014 as a “one stop shop for state and local governments, public and private developers and investors seeking to utilize innovative financing and P3s to deliver transportation projects.”
As a result, successful examples of P3 projects can be found nationwide. P3s have been instrumental in the building of more than 30 school buildings in Virginia, the hemisphere’s largest seawater desalination plant in California, the repair of over 500 bridges in Pennsylvania and a recently completed 22.8-mile rail spur running from Denver International Airport to the city’s downtown district.
But, despite the benefits, many complexities exist. In addition to varying legislation from state to state, P3 partnerships are commonly comprised of dozens of stakeholders ranging from government officials and public entities to private investors, developers, designers and construction firms, many of whom are negotiating for their own self interests. In most cases, the public sector is actively vying to save money, while everyone else is looking to turn a profit.
Hesitancy, anxiety and distrust often surround P3 agreements due to the complicated agreement terms and general unfamiliarity with P3 contracts that still exists in this country. Risk sharing is another common concern that is now integral to P3 arrangements. Many times, this is resolved three different ways: the public sector retains all the risks; the private industry partner or consortium, as it’s commonly called, takes all the risks; or, risk is shared by both entities with direct responsibilities mutually agreed upon before construction starts.
Consequently, it’s nearly impossible for contractors, owners and related construction professionals to fully visualize and predict all the challenges that can possibly emerge during a P3 agreement that can span decades. Who is responsible for what when things go wrong? What happens if profits don’t meet long-term expectations or one or more partners drop out of the project?
That’s why professional liability insurance products should be considered an essential component for all public private partnerships. However, depending on the project scope, size of the firms involved and risk appetite of the consortium or concessionaire, few options exist.
The first form, and most expensive, is project specific professional liability (PSPL). PSPL is a primary insurance product designed to insure the entire design team (and sometimes the construction team), while replacing the professional liability insurance they carry on a practice basis. In these situations, careful consideration should be given to certain terms of the policy (such as insured versus insured exclusions or related entity exclusions) so as to not void coverage if either the design team or construction team hold an equity position in the consortium.
Another recent PSPL advancement involves the inclusion of rectification coverage. Rectification coverage is a first-party coverage structured to pay the expenses needed to remedy design defects identified during the construction process. It usually covers both the design and construction team – minimizing the likelihood of project delays and potentially costly liability claims. Of course, the carrier must determine that the design defect or error is likely to result in a third-party claim if not remedied. Otherwise, the coverage does not apply.
The second option is commonly termed owner’s protective professional insurance or OPPI. OPPI is purchased by an owner and insures only the owner (in this case the consortium). The policy covers truly catastrophic design errors or errors in professional services committed by either the design or construction team, as it sits in excess of the prime design professional’s professional liability program and/or the general contractor/design-builder’s program. It is a less costly alternative than PSPL simply because it is excess insurance.
While many expect P3s to fill the financial void for the ongoing funding of infrastructure projects sorely needed to revitalize the nation, they can also produce a myriad of problems for those that are unfamiliar with their structure, reasoning and complex contractual terms. A boon to many, P3s can also prove financially burdensome for unprepared or inexperienced participants. Due diligence is mandatory. Roles need to be clearly defined and safety nets inserted should issues surface. Never underestimate the unforeseen. This includes minimizing the impact of potential risks with the latest professional liability insurance products.